- Spanish bond yields surge to euro-era record high on continued concerns about Spain’s debt sustainability.
- Modest market impact – stock markets moderately higher and EUR trading largely unchanged.
- ECB and Bundesbank disagree on bank union feasibility.
Spain’s and Italy’s bond yields continued to surge yesterday and Spain’s 10-year bond yield reached a euro-era record high of 6.80% before closing at 6.72%. Italian 10-year bond yields surged to 6.26% underscoring increasing contagion to Italy. However, the impact on the wider market was more modest yesterday, underscoring that market positioning is already stretched.
In connection with the release of ECB’s semi-annual financial stability review ECB’s vice-president, Victor Constancio, supported the creation of a banking unionl. According to Constancio, such a union should include eurozone-wide bank supervision, common deposit guarantees and a funding mechanism from banks. Constancio also said that he does not share the view that a fiscal union is a necessary condition for implementing a banking union. Several Bundesbank officials yesterday said that a fiscal union is a necessary condition for a bank union. In an article in today’s edition of Financial Times, Alexis Tsipras, head of Syriza in Greece, says he will keep Greece in the euro, see Financial Times.
The US stock market yesterday managed to close markedly higher despite the negative development in Europe and S&P 500 closed 1.2% higher. The market apparently got some support from increasing expectations that the Fed will deliver some easing measures next week after comments from Chicago Fed president Charles Evans. However, it should be remembered that Evans is regarded as a super dove, so his vote is unlikely to be decisive next week.
Asian stock markets are also slightly positive this morning with Nikkei and Hang Seng up 0.8% and 0.3% respectively. In addition to the strong close in the US, Asian stock markets have been supported by strong machinery order data released in Japan. In April machinery orders in Japan surged 5.7% m/m (Cons: 1.6% m/m) suggesting that reconstruction after last year’s earthquake continues to underpin growth.
US bond yields increased after the auction of 3-year government bonds yesterday. 10-year bond yields are up 2bp to 1.65% since the markets closed in Europe yesterday.
In the FX market the impact on the EUR from the surge in Spanish and Italian bond yields has been modest and EUR/USD is this morning trading slightly higher at 1.249 compared with yesterday’s close in Europe. JPY has also weakened slightly and USD/JPY is this morning trading at 79.63.
Global Daily
Focus today will continue to be on the news flow in connection with the European debt crisis. In Spain prime minister Rajoy is expected to answer questions in the parliament about the EUR 100bn loan for recapitalisation of Spain’s banks. EU commission president Barroso is scheduled to speak about the 28-29 June EU summit before the EU parliament and Italian prime minister Monti will speak about Europe in the Italian parliament at 09:30 CET. In the data calendar the most important event today is retail sales in the US. The headline number will look relatively weak because of soft auto sales and lower gasoline prices in May. In Europe final consumer prices for May will be released in most eurozone countries. Only interesting news here is that we will get the first estimate for core inflation, so this is not expected to have major market impact.
Fixed income markets: Broad based sell-off in European bond markets yesterday. The long end of the curves sold off, German Bunds were in less demand and the yield went up 12bp. US Treasurys are currently more stable. Meanwhile Spanish bond yields were at post-EMU highs at 6.84% before closing somewhat lower – this compares with 5.95% on Monday morning. The risk of Spain being forced into an even bigger rescue operation is increasing as Spanish yields rise. German Bunds also look a bit soft and have probably been overbought short-term. Some position unwinding is likely to have taken place ahead of the 10-year auction today, where an estimated EUR5bn is sold. Sweden is also coming to the market in two papers (3.5% ’39 and 3.5% ’22, in total estimated SEK2.5bn).
FX markets: Despite the recovery in risk appetite in the equity markets the euro has a hard time performing as the Greek election is approaching and after Spanish yields climbed to a record high since the creation of the eurozone. Overnight EUR/USD has once again fallen below 1.25. The picture will most likely be the same today and we repeat yesterday’s message that EUR/USD and EUR/GBP should be sold on up-ticks. Today, the Italian t-bill (and tomorrow’s bond auction) could give an indication of how investors perceive Italian government debt after the latest developments in Spain. The FX markets will also keep an eye on US retail sales that might look weak. The news flow about Spain also has the potential to move the FX markets.
Scandi Daily
Sweden: At 08:00 CET Prospera, on behalf of the Riksbank, will publish its quarterly inflation expectation survey. In the last survey average 2-year inflation was exactly at the 2% target. This should pass without any significant market impact. At 09:30 the SNDO is set to publish a new borrowing forecast for 2012 and 2013. We do not expect the new forecast to deviate much from the March projection, which was based on a 1% growth GDP 2012 prediction and a mild increase in unemployment. In all, we think that there is a fair chance that the supply of nominal bonds will be kept intact this time. 
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